Brad Setser

Follow the Money

Cross border flows, with a bit of macroeconomics

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“This is unquestionably the worst global economic crisis since the 1930s”

by Brad Setser
March 25, 2009

So writes Martin Wolf. And despite some signs of hope this morning, he is certainly right.

The IMF’s latest global forecast leaves no doubt on this point. The IMF should be commended for dropping its usually measured language when circumstances, unfortunately, call for candid, vigorous prose. The IMF’s note for the G-20:

“The prolonged financial crisis has battered global activity beyond what was previously anticipated. Global GDP is estimated to have fallen by an unprecedented 5% in the fourth quarter (annualized), led by the advanced economies, which contracted by 7%. GDP declined by around 6% in both the United States and Europe, while it plummeted at a post-war record of 13% in Japan. Growth also plunged across a broad swath of emerging economies … against this backdrop, global activity is expected to contract in 2009 for the first time in 60 years.” (emphasis added)

Both the IMF and World Bank are now forecasting an outright fall in global output in 2009, with a larger contraction than previously forecast in the advanced economies and sharply lower expected growth in the emerging world. I am not sure that even Nouriel Roubini was forecasting an outright fall in global output a year ago. Anything below 2% is generally considered a global recession.

The most visible manifestation of the scale of the downturn continues to come from Asia — with the sharp fall in Asian exports to the world mirroring the sharp fall in global demand. Japan’s exports are now down 50% from last February. The IMF is now forecasting a 6% of GDP contraction in Japan in 2009. That is a contraction of magnitude as emerging economies experience during their crises.

While growth is expected to be stronger in many parts of Asia than in Japan (India and China are expected to be able to find domestic sources of growth), the trade data doesn’t alas, look at that different.

The pace of decline in Korea and Taiwan’s exports did moderate in February, but at least some of that was a by product of the timing of China’s new year. That though offers the only glimmer of hope in the Asian trade data. The y/y fall in China and Japan still hasn’t hit bottom.

Much of the expansion of global trade over the last decade — like much of the expansion in cross-border financial flows — rested on a weak foundation. It required an unsustainably high level of consumption in the US — and, at the tail end of the boom, a bit of a consumption bubble in the UK, Spain and a host of new European economies as well. And rather than adjusting gradually, the adjustment is coming far too quickly.

One last point: the IMF’s analysis (see appendix 1, and pp. 27-32) of the size of different countries fiscal stimulus is interesting. China’s discretionary fiscal stimulus is among the largest. But it has weak automatic stabilizers. Consequently, the inclusion of automatic stabilizers increases the size of Europe’s fiscal policy response, but not China’s.

If the size of the fiscal stimulus is measured by the swing in the government’s fiscal balance from 2007 to 2009, China’s effort looks a bit less impressive than say the United States effort. It is roughly comparable to Europe’s effort. The IMF forecasts a 4.8% of GDP rise in the US fiscal deficit (using their definition of the deficit, which excludes financial bailout costs), a 4.4% rise in the deficit of the European members of the G-20 and a 4.5% swing in China’s deficit.

Or to put it a bit more provocatively, big external deficit countries like the US and the UK are going to run fiscal deficits of between 8 and 10% of their GDPs, while the deficit in surplus countries like China and Germany remains between 3 and 4% of their GDPs.

The change in the fiscal balance doesn’t though capture China’s efforts to use its state banks to support local state-led infrastructure spending, or for that matter the Fed’s efforts to use its balance sheet to support consumer lending in the US.

All in all, fiscal policy clearly is being used to support global growth, as it should be. The fall in exports globally in February leaves no doubt that there is an enormous shortfall of demand, relative to the world’s capacity to produce. But the global decomposition of the stimulus doesn’t suggest that it will do much to support “rebalancing.” The surplus counties generally aren’t leading the stimulus league tables.


  • Posted by Twofish

    df: I ve long said that since the debt/GDP ratio was already higher in 2008 than in 1933 after a fall of the US GDP of 50%, the coming crisis is bound to be worse than the one of the 30’s.

    And I’ve always argued that “total debt” is a meaningless number that is often very misunderstood. If you save money in a bank, you’ve created debt, as the bank now owes you money.

    Also money is a collective illusion. If you have the productive things there (like factories and people) then all you have to do is to figure out what computer keys to press in order to redistribute things.

    A high “total debt” is very easy to fix. If I owe you a trillion dollars and you owe me a trillion dollars, then we just shake hands and we both agree to cancel each others debt. The tricky things happen when I owe you, but you don’t owe me.

    So ironically, we are in good shape if everyone is indebted to everyone else. If you have A indebted to B but B not indebted to A, *then* we have problems.

  • Posted by Judy Yeo

    There’s probably a group of foreigners feeling worse than anyone else right now. Their investment in export oriented factories are more or less severely impaired. The havoc in currency markets is hardly helping repatriation efforts. The sale of property could hardly go well in such a market. A real sign of how global the mess is is how these people are now wondering if staying put is any riskier than leaving for their home countries.

  • Posted by duke

    Wrong on several counts but even if it were true that nett debt could sort itself out, the theory fails when we consider toxic CDOs.

    For the first time in history the world economy is poisoned by debt no-one can price to market and indeed are afraid to.

    How can economies survive when the trillion dollars i thought i had turns out worthless?
    How does that affect you when the trillion you loaned me was backed by garbage assets?

  • Posted by df

    Twofish, I m not counting savings in banks, only debt from agents between them and between them and the bank.

    “cancelling” debt is not that easy, with or without savings taken in to account.
    For instance if as an auto company I sold by products to consumers on credit, if I am indebted to part makers and part makers have promised to pay wages and severance packages to their workers, who are buyers of cars.

    Do you think it ll be easy to tell workers to forget about their severance package in exchange of forgetting about their car debt.
    And what about those without a car ?
    And why should each of them individually not prefer to turn bankrupt, and if that happens what happens to those securizing debts etc.

    The thing is production is based on assumptions of future payment. Once confidence is gone, so goes production.